TL;DR:
- Microsoft posted tepid quarterly sales growth and expects a continued slowdown in Azure cloud-services business, overshadowing optimism about AI-powered products.
- Azure revenue growth slipped to 27% from 31% in the previous quarter and is projected to slow further in the current quarter.
- CEO Satya Nadella introduced new AI programs based on OpenAI models, driving strong demand for internet-based services.
- Office productivity suite’s AI integration is not yet widely available, and spending on Azure services and Office applications is easing after years of growth.
- Despite Azure’s slowdown, analysts believe that Microsoft is well-positioned to monetize new AI investments in the long term.
Main AI News:
In the latest earnings report, Microsoft Corp. revealed moderate quarterly sales growth, but it also forecasted a continued slowdown in its Azure cloud-services business. This overshadowed the optimism surrounding the high customer interest in their new AI-powered products. As a result, Microsoft’s shares witnessed a dip of more than 4% in premarket trading on Wednesday.
While the overall results for the period ending June 30 surpassed analysts’ projections, there was concern as Azure’s revenue growth slipped to 27%, excluding currency impacts, down from 31% in the previous quarter. Moreover, the company expects Azure’s growth to slow further in the current quarter, prompting them to increase spending for data center expansion to accommodate new cloud services. However, despite the investments, only a gradual increase in AI revenue is anticipated.
CEO Satya Nadella has been actively unveiling an array of new AI programs, incorporating models from partner OpenAI, across Microsoft’s major product lines. This move has generated strong demand for internet-based services utilizing OpenAI technologies. However, the full potential of AI within the Office productivity suite is yet to be realized, and overall spending on Azure services and Office applications is showing signs of easing after several years of substantial corporate investments. This lackluster Azure outlook dampened hopes that the new offerings would act as a catalyst for renewed growth in a business that has been the cornerstone of Microsoft’s revival over the past decade but has been experiencing a slowdown in recent years.
Anurag Rana, an analyst from Bloomberg Intelligence, commented, “While Microsoft is better positioned than other cloud providers to monetize new AI investments, we think it can take a few quarters for that growth to kick in.”
Following the earnings report and forecasts, the company’s shares experienced a decline, reaching as low as $335 in extended trading on Tuesday. This came after the stock had closed at $350.98 in New York. Notably, Microsoft’s stock had risen by 18% in the three months leading up to June, outperforming the 8.3% increase in the S&P 500 Index during the same period. Investors had shown great enthusiasm, leading to a record high for Microsoft’s shares on the back of high expectations for their new AI products.
According to Microsoft’s Chief Financial Officer Amy Hood, Azure’s revenue growth for the first quarter of fiscal 2024 (ending in September) is projected to be between 25% to 26%, excluding currency fluctuations. Comparatively, Azure sales had experienced significant jumps of 42% in the same period a year earlier and 48% in the first quarter of fiscal 2022.
Hood expressed satisfaction with the recent period’s Azure growth rate, stating that it was at the higher end of her forecast. She mentioned that customers tend to maximize their usage of cloud-based products they’ve already invested in, which could have contributed to the growth. Nevertheless, Hood expects a lesser impact on Microsoft’s results in the coming quarters.
During the conference call, Nadella highlighted that Azure sales in 2023 represented more than half of the company’s total $110 billion of cloud-related revenue, marking the first time Azure reached such a milestone. This substantial gain was partly driven by Azure OpenAI, Microsoft’s cloud service catering to businesses seeking to leverage OpenAI’s artificial-intelligence tools. The offering has seen a remarkable increase in customers, surging to 11,000 from the 4,500 reported just a few months ago in mid-May.
Hood expressed her encouragement at the pace of adoption for their AI tools, highlighting the company’s focus on AI-driven innovations.
Overall, Microsoft reported a profit of $2.69 per share for the period ending June 30, with sales rising by 8% to $56.2 billion. These figures surpassed the average estimates of analysts, according to a Bloomberg survey, which had projected earnings of $2.56 per share and sales of $55.5 billion for the fiscal fourth quarter.
Despite moderation in annual sales growth to 7% in 2023, following five consecutive years of increases above 10%, Microsoft remains committed to progress and transformation. This was evident through recent workforce changes, including the dismissal of 10,000 employees in the March quarter, affecting key businesses like Azure and security software. The company also made additional layoffs in July, primarily in sales and support.
Looking ahead, Microsoft plans to increase its spending to expand data centers and acquire the necessary chips to run complex AI systems. This strategic investment is geared towards unlocking the full potential of their products, as evidenced by the introduction of Microsoft 365 Copilot — an Office AI tool offered at $30 per month per user for businesses, on top of the existing business productivity package.
Over the past months, Microsoft has solidified its position in the AI realm by investing $13 billion in startup OpenAI. This partnership has propelled the 48-year-old software giant to the forefront of the race to develop innovative applications allowing customers to create new content from existing data and web information. Microsoft is currently reimagining its products, including Office, Windows, Azure, and Bing search, around OpenAI’s cutting-edge language model, GPT-4, while also incorporating chatbot technology similar to the viral hit ChatGPT.
The decline of Microsoft’s sales from Windows operating system software, pre-installed on computers, during the June quarter, reflected a 12% drop, coinciding with a 13% decline in global PC shipments, according to market research firm IDC. Despite this challenging environment, Microsoft’s Hood remains optimistic, as some back-to-school PC sales in the June quarter helped bolster results. However, she also acknowledges that overall trends in the PC market remain unchanged, with revenue from devices falling by 20%.
On a positive note, Microsoft’s Xbox video game content and services revenue experienced a 5% increase in the quarter, contributing to the company’s diversified revenue streams.
Amidst regulatory challenges, Microsoft’s $69 billion deal to acquire game publisher Activision has been progressing favorably in recent weeks. After overcoming certain hurdles, the deal is now expected to be completed by October 18. Microsoft remains committed to navigating the remaining regulatory processes and closing the deal successfully.
Conclusion:
Microsoft’s Azure cloud-services facing a slowdown, despite positive reception for AI-powered products, raises concerns about short-term growth prospects. However, with an array of new AI programs and strong customer interest, Microsoft’s long-term position remains promising. Investors and the market should closely monitor the company’s strategies to leverage AI technologies effectively and navigate through the challenging cloud-services landscape.
